The Globalization of the High Yield Market:

Transcription

1 The Globalization of the High Yield Market: Why Diversification Is An Increasingly Important Consideration In High Yield Investing The High Yield Team May 2013

2 The Globalization of the High Yield Market: Why Diversification Is An Increasingly Important Consideration In High Yield Investing The High Yield Team Executive Summary A global investment approach to high yield significantly increases the size of the investment universe and allows investors to participate in some of the fastest growing sectors in the fixed income markets. The global high yield market 1 may enable investors to better control risk through adequate diversification across industry and geographic sectors. Since 1999, the global high yield market has had only three periods of negative returns: the 2000 downturn due to the telecom/internet bubble, the 2002 economic downturn, and the 2008 financial crisis. Over the past 25 years, equities have outperformed high yield, returning 9.71% annually versus 9.07%. However, equities recorded almost twice the volatility as high yield. During the more recent 10-year period, high yield has significantly outperformed equities with average annual returns of 10.39% versus 7.10%, again with substantially lower volatility. During all periods over the last 25 years and particularly during volatile economic and market cycles -- high yield has outperformed equities on a risk-adjusted basis. The European high yield market development is similar to that of the U.S. market as both markets have clearly identifiable and similar growth periods. The high yield corporate sector of emerging markets debt has grown at a rate in excess of all other high yield markets, increasing 117% over the past five years and currently totals $203.7 billion 2. We believe the next move in the fixed income markets will be driven by an increase in interest rates. In this environment, high yield should outperform other fixed income investments due to its relatively shorter duration and higher spreads. Security selection, however, will continue to be more important than duration management due to the equity-like risks of high yield securities. The Globalization of the High Yield Market The global high yield market has grown dramatically over the past decade. While U.S. high yield still comprises the majority, the European and Emerging corporate debt high yield markets are expanding at faster rates. The total face value of the global high yield market now exceeds $1.6 trillion with the U.S. high yield segment representing 68% of the total (with 59% of the issuers in the Global High Yield Index geographically located in the U.S.). This compares with a $292 billion market with 94% U.S. market share at the beginning of 2000 (with 82% of the issuers located in the U.S.). 1 We define the global high yield market as the worldwide market for below-investment grade corporate credit regardless of domicile. 2 2 The Globalization of the High Yield Market

3 Table 1: Global High Yield Characteristics 3 Global High Yield 4 U.S. High Yield European High Yield Emerging Markets Face Value (USD) 1,630,426 1,096, , ,704 Market Value (USD) 1,720,939 1,163, , ,199 Number of Issuers 1,486 1, Option Adjusted Spread (bps) Modified Duration to Worst (yrs) Avg Coupon (Par Weighted) 7.72% 7.82% 7.07% 8.17% Avg Price (Par Weighted) Composite Rating B1 B1 BB3 BB3 3 As of 31 December Source: BofA Merrill Lynch 4 Also includes high issuance in Canadian dollars and U.S. dollar issuance in FX-G10 which together only account for 1% of the market. The growth in the European and Emerging Markets debt high yield markets is due to a number of reasons, in our view, including a distressed European banking system forcing companies to turn to public markets for financing; downgrades particularly in the banking sector of the European market; and more vibrant economies in emerging markets with reduced sovereign risks. We will discuss the history and the growth of the individual markets in the following sections. In addition, we will show how a global approach to high yield significantly increases the size of the investment universe and allows investors to participate in some of the fastest growing sectors of the market. The global strategy may also enable investors to minimize geographical and concentration risks while exploiting market inefficiencies. The following chart details the annual growth in the global high yield market. Growth of the Global High Yield Market 5 Size of the Global High Yield Market has Nearly Tripled in the Last Decade A global approach to high yield significantly increases the size of the investment universe and allows investors to participate in some of the fastest growing sectors of the market. 5 3 The Globalization of the High Yield Market

4 The global high yield market may enable investors to better control risk through adequate diversification across both industry and geographic sectors. The largest global industry sectors include basic industry, energy, and banking with no sector accounting for more than 14% of the market. The industries are not evenly distributed across the geographic segments of the global market. For example, the European segment s largest industry sector is banking (24%), while the largest U.S. industry sector is energy (14%). A larger universe provides additional opportunities to diversify by industry. Figure 3: European High Yield Global High Yield Industry Breakdown 6 : Industry Diversification Across Geographic Segments Figure 4: Emerging Markets High Yield Figure 1: Global High Yield Figure 2: U.S. High Yield Geographic diversification is also an advantage to investing in a global high yield portfolio as markets have different secular and cyclical characteristics. An investment in a U.S. high yield portfolio would restrict geographic diversification as it is limited to high yield corporate debt issued in the U.S. domestic market. Approximately 86% of the U.S. market pertains to The global high yield market may enable investors to better control risk through adequate diversification across both industry and geographic sectors. 6 As of 31 December Source: BofA Merrill Lynch 4 The Globalization of the High Yield Market

5 Global High Yield Country Breakdown 8 : Country Diversification can allow for Better Risk Control 8 As of 31 December Source: BofA Merrill Lynch companies domiciled in the U.S. On a global basis, however, the U.S. geographical exposure only constitutes 59% 7 of the global high yield market with no other single country accounting for more than 5% of the index. Since 1999, the global high yield market has had only three periods of negative returns during 2000 as technology and telecom companies sold off sharply, the 2002 economic downturn, and during the 2008 financial crisis. The global high yield market had an annualized return of 7.47%, exceeding the 7.29% return for the U.S. High Yield market. During this 14-year period, emerging market returns enhanced performance, while European market returns slightly detracted from performance. We believe the diversification benefits of a global high yield strategy can be used to offset this type of significant region- and industry-specific volatility. During the European sovereign debt/banking crisis, the European high yield market recorded a negative return while all other constituents of the global high yield index, including the index itself, had positive returns providing further evidence of the ability to add alpha through a geographic rotation of a portfolio. Over the last three years, the global high yield market has outperformed the U.S. market with a 12.27% annualized hedged return versus 11.58%, respectively, driven by higher returns in both the European and emerging markets. Spreads in the global high yield market peaked during the financial crisis driven by higher spreads in all markets and particularly in the European and emerging markets. European spreads also had a pronounced effect on the global market during the sovereign/ banking debt crisis during 2011, primarily due to the significant exposure to banks in the European high yield index. Since then, global defaults have remained low and are expected to maintain a low level with U.S. defaults also expected to remain low and European defaults expected to accelerate. Even when taking into account the differences in trading liquidity, bankruptcy laws, and accounting differences, we believe this geographical volatility gives investors an opportunity to add alpha and reduce risk. Global High Yield Returns & Spreads 9 9 Returns are USD hedged. 7 The Merrill Lynch High Yield Index is currency based; therefore a company in a developed market that issues in USD in the U.S. market is included in the U.S. High Yield Index. As a result, only 86% of the U.S. High Yield Index pertains to companies domiciled in the U.S. From a global perspective, only 59% of the Global High Yield Index comprises companies whose underlying country of risk is the U.S. 5 The Globalization of the High Yield Market

6 Global High Yield Returns & Spreads 10 Global high yield has a negative correlation to U.S. Treasuries, making it an advantageous asset class in a rising rate environment. High yield is more volatile than other fixed income assets but is less volatile than equities. Over the last 10 years, global high yield has had a significantly higher return with appreciably lower volatility than U.S. equities. During the same period, high yield has also had a higher Sharpe ratio than leveraged loans, equities, emerging market corporate bonds, and investment grade bonds. On a risk-adjusted basis, 10 Default rates on an issuer basis. Over the last 10 years, global high yield has had a significantly higher return with appreciably lower volatility than U.S. equities. global high yield slightly underperformed U.S. high yield over the last 3 years due to the low Sharpe ratio in the European sector as it was impacted by the sovereign/banking debt crisis. In longer time periods, global high yield has slightly outperformed. Global high yield has a negative correlation to U.S. Treasuries, making it an advantageous asset class in a rising rate environment. Sharpe Ratio 11 6 The Globalization of the High Yield Market

7 Correlation 11 Ending: Dec-2012 H0A0 HP00 Hedged USD HW00 Hedged USD EMUH Hedged USD LSTA S&P 500 Barcap U.S. Treas. U.S. AGG IG Corp US HY ML (H0A0) 1.00 European HY (HP00 Hedged) Global HY (HW00 Hedged) Emerging Markets HY Corporates (EMUH) Leveraged Loans (LSTA) Equities (S&P 500) Barcap US Treasury (0.08) (0.31) (0.22) (0.05) (0.37) (0.12) 1.00 Investment Grade (US AGG IG Corp) Emerging Markets Corporate Debt (EMBI G D) Emerging Markets Corporate (CEMBI B D) Start Date Jan-91 Jan-98 Jan-98 Jan-99 Jan-97 Jan-91 Jan-91 Jan-91 Jan-94 Jan-02 EMBI G D CEMBI B D The following is an analysis of the global high yield market focusing on the size, growth, diversification, return and return volatility, and default history of the various segments of the market. The U.S. High Yield Market Prior to the 1980s, high yield securities consisted of the outstanding bonds of former investment grade companies that had been downgraded to below investment grade. Companies deemed speculative grade were effectively prohibited from participating in the public capital markets and forced to rely on more expensive and restrictive bank loans and private placements. The mid-1980s marked a pivotal point for the asset class as investment banks began selling bonds of companies that were unable to achieve an investment grade rating. It was confined to the U.S. capital markets, as there was no global high yield market. The high yield market grew during this period as high yield bonds were used to finance mergers and acquisitions and leveraged buyouts. It also provided 11 As of December 31, Source: Stone Harbor Investment Partners. H0A0 = Merrill Lynch High Yield Master II Index Level Un-hedged U.S. DOLLAR HP00 Hedged USD = BofA Merrill Lynch European Currency High Yield Index Level Hedged U.S. DOLLAR HW00 Hedged = Merrill Lynch Global High Yield Index Total Return Hedged U.S. DOLLAR LSTA = S&P/LSTA Leveraged Loan Index Index Level Local U.S. DOLLAR S&P 500 = S&P 500 Index Primary Level Local U.S. DOLLAR Barcap U.S. Treasury = BarCap U.S. Treasury Index Index Level Un-hedged U.S. DOLLAR U.S. AGG IG Corp = BarCap U.S. Agg Corp Index Level Not Applicable U.S. DOLLAR EMBI G D = JPM EMBI G D Index Level Local U.S. DOLLAR CEMBI B D = JPM CEMBI B D Index Level Local U.S. DOLLAR financing for companies that were previously unable to access the capital markets due to many factors including insufficient business size or operating history. Part of this growth is also attributable to investment grade companies becoming more comfortable operating with higher leverage. The market went through various stages in its development including the rise and fall of Drexel Burnham (the primary underwriter of high yield bonds) in 1990, the telecom era from the boom and bust of the late 1990/early 2000s, the financial crisis of 2008, and three credit cycles. Since the mid-1980s, the U.S. high yield market has grown from $65 billion to $1.1 trillion as of the end of December The market, as defined by the BofA Merrill Lynch index is comprised of corporate debt issued in the U.S. domestic market with the geographic risk confined to developed countries. The U.S. market has 1,025 issuers with quality ratings of 41% BB rated, 43% B rated, and 16% CCC rated. The market is well diversified by credit rating, industry, type of security and issuer. Since the mid-1980s, the U.S. high yield market has grown from $65 billion to $1.1 trillion as of the end of December The Globalization of the High Yield Market

8 Growth of the U.S. High Yield Market The Market has Grown from $65 billion to $1.1 trillion 12 returned -2.75%, while the S&P 500 returned %. In the following recovery year, high yield returned 28.15%, while equities returned 28.68%. During the 2008 financial crisis, high yield returned % and equities returned %. In the recovery year, high yield dramatically outperformed equities, returning 57.51% versus 26.46%, respectively. High yield securities tend to behave with some of the performance attributes of both fixed income and equities. Currently, high yield performance is akin to a fixed income investment due to low yields and record low Treasury rates. U.S. High Yield Returns & Spreads The Market has Shown Consistent Positive Returns As of 31 December Source: BofA Merrill Lynch The U.S. high yield market has shown consistent positive returns over the last 25 years with only 5 years of negative returns and an average annual return of 9.07%. Over the same period, equities have outperformed high yield returning 9.71% annually with substantially more volatility. However, over the last 10 years, high yield has significantly outperformed equities 10.39% versus 7.10%. During all periods over the last 25 years particularly during volatile economic and market cycles high yield has outperformed equities on a risk-adjusted basis. During the telecom/technology downturn of 2000 through the economic downturn of 2002, high yield 13 Spreads prior to 1996 are not available. The U.S. high yield market has shown consistent positive returns over the last 25 years with only 5 years of negative returns and an average annual return of 9.07%. If we examine spread levels throughout a credit cycle, we see that spreads historically widen during the latter stages of a credit cycle and prior to an economic downturn. This is followed by an increase in the default rate. Spreads widened considerably 8 The Globalization of the High Yield Market

9 during each of the telecom, technology and financial crisis economic downturns. High yield defaults, on an issuer basis, have averaged 5.2% since 2000, which includes both economic downturns where default rates reached a high of 13.7% and 15.3%, respectively. The current default rate has declined to 2.3% and has maintained an average rate of 2.4% for the past two years. As a predictor of future defaults, the distressed ratio (bonds with spreads greater than 1000 bps) is currently 9.9%, which is significantly lower than both the European and emerging market ratio of 16.8% and 18.6%, respectively. This would indicate that the market expects defaults to accelerate in both Europe and emerging markets compared to the U.S. market. The current distressed ratio is also significantly lower than the 10-year average of 15.1% - indicating that the default rate should remain low. Even in the current weak global economic environment, the U.S. high yield market is supported by strong underlying fundamentals. We do not believe there will be a significant increase in default rates over the next several years and more companies are returning to the investment grade market than are getting downgraded to high yield. Company balance sheets are solid with reasonable leverage, high cash balances, and fewer near term maturities. Equity markets have recently been agreeable to initial public offerings of highly leveraged companies, which is beneficial to the high yield market as companies re-equitize their balance sheets. There has also been an increase in M&A activity, which can be beneficial to the high yield market, as better quality companies acquire high yield issuers. Despite an Experienced analysts become crucial, in our view, to avoiding the late cycle excesses as profits fall, balance sheets worsen, and fixed income spreads widen due to increasing default rates. increase in aggressive issuance (leveraged buyouts and dividend financing), the percentage of their financings are insignificant and not yet concerning. High yield bonds tend to outperform in the early part of the credit cycle as spreads tighten, while balance sheets are repaired. As the cycle matures, cash flows historically improve and credit performs well. In the latter part of the credit cycle, credit becomes readily available, new issues become more speculative and spreads rise in anticipation of increasing defaults. Experienced analysts become crucial, in our view, to avoiding the late cycle excesses as profits fall, balance sheets worsen, and fixed income spreads widen due to increasing default rates. U.S. Bond Issuers Default Rate (LTM, %) Default rates on an issuer basis. We believe the next move in fixed income will be a result of a rise in interest rates. In this environment, high yield should outperform other fixed income investments due to its relatively shorter duration and higher spreads. Security selection, however, will continue to be more important than duration management due to the equity-like risks of high yield securities. 9 The Globalization of the High Yield Market

10 The European High Yield Market The development of the European high yield market is similar to that of the U.S. market as both markets have clearly identifiable and similar growth periods. The market includes all euro and sterling denominated noninvestment grade debt publicly issued in the eurobond, sterling domestic or euro domestic markets. It began in the late 1990s, focused primarily on financing a growing telecom/media sector, similar to what was occurring in the U.S. In December 1998, the market was only 4.9 billion (35 issues) with the communications sector accounting for 49% of the market. This phase ended poorly in the early 2000 s as the telecom sector became overbuilt and over leveraged, leaving many companies in default on their debt. This period was followed by the leveraged buyout phase, effectively mirroring the U.S. market. During this period, the market grew from 52.7 billion as of March, 2003 to 84.1 billion four years later. The financial crisis that began in late 2007 brought an end to the leveraged buyout stage. Size and Growth of European High Yield Market Displays Clearly Identifiable and Similar Growth Patterns as the U.S. High Yield Market 15 After a brief pause in 2008, the market began its most recent stage of development -- the refinancing phase -- with the market growing 155 billion since 2008 to 239 billion in After a brief pause in 2008, the market began its most recent stage of development -- the refinancing phase -- with the market growing 155 billion since 2008 to 239 billion in The exceptional growth during this stage is a result of banks reluctance or inability to lend, as they have been forced to reassess their risk exposure due to sovereign debt issues, as well as new regulations on capital. As such, corporations have been forced to reduce their reliance on banks and instead access the capital markets for new financing, as well as refinancing needs. We believe that the sovereign debt crisis has caused a structural change in European leveraged financing. As Europe works to resolve this crisis, banking disintermediation will only intensify. We expect bonds to become a core component of the capital structure as corporations diversify their funding needs. As Europe works to resolve this crisis, banking disintermediation will only intensify. We expect bonds to become a core component of the capital structure as corporations diversify their funding needs The Globalization of the High Yield Market

11 Another key contributor during this period has been companies that were downgraded from investment grade to high yield (fallen angels). Since 2009, fallen angels have accounted for approximately 47% of the growth in the market. One of the key causes has been the downgrade of sovereign ratings, such as Greece and Portugal, and its effect on the sovereign corporate ratings. The other key cause has been the downgrade of subordinated bonds of banks as rating agencies adjust their ratings criteria in the face of new banking regulations as well as deterioration of credit matrices of banks particularly those from crisis countries in southern Europe. Ratings downgrades, particularly of Spain and/or Italy, will likely result in a significant number of corporate rating downgrades that could fuel further growth of the high yield market. If for example, Spain s entire BBB rated Euro denominated investment grade bonds were to be downgraded to below investment grade, the BofA Merrill Lynch European high yield index would increase by 33%. While this is very unlikely, we believe global high yield investor demand to be sufficient to absorb this new supply after some initial volatility. While demand for high yield assets was originally confined to investment grade funds (primarily fallen angel holders), hedge funds, and banks proprietary trading desks; high yield demand has expanded to also include European mutual funds, insurance and pension funds, and global high yield investors. The European high yield market totals 239 billion as of the end of December 2012 or 19% of the global high yield index. Its rating composition is 71% BB rated, 21% B rated, and 8% CCC rated. With the The European high yield market totals 239 billion as of the end of December 2012 or 19% of the global high yield index. growth in the high yield market, industry diversification has also increased. Broadly defining the market into 15 industry sectors, the top three industry sectors (i.e., banking, basic industry, and automotive) make up 52% of the market, with banking accounting for 24% of the market. The euro zone crisis has created the unusual environment of sovereigns continuing to struggle with high debt levels, while European corporate debt leverage and operations remain relatively healthy although we are starting to see a slight deterioration in operations. European High Yield Market Returns & Spreads Over the last 15 years, the European high yield market has returned an average of 6.93% with 6 years of negative returns on a hedged USD basis. The European high yield market has exhibited higher returns than the U.S. and global high yield markets over the last 10 years when hedged into U.S. dollars. However, with the lack of depth and history, the European market has had significantly higher volatility, particularly in recent years, due to the sovereign debt crisis giving the market generally lower risk-adjusted 11 The Globalization of the High Yield Market

12 returns during this period. Spreads also widened substantially more than the U.S. market during both the financial crisis and the sovereign debt crisis. Spreads peaked during the financial crisis due primarily to the significant amount of financial securities in the European high yield market. Spreads continue to remain higher than the U.S. high yield market since 2008 and we believe spreads will remain wider in the European high yield market due to current economic concerns, sovereign debt issues, a weak European banking system, and generally, poorer trading liquidity. Declining from a peak in 2003 (the end of the leveraged buyout period), default rates have remained generally lower than the U.S. high yield market, except for short periods during the financial and sovereign debt crisis. The distressed ratio at 16.8%, however, would indicate that the market expects defaults to accelerate. Europe Bond Issuers Default Rate (LTM, %) 17 This growing sector of the high yield market [emerging markets high yield corporate debt] gives investors access to companies in emerging markets, a segment of the world economy that accounts for approximately 40% of total GDP. Emerging markets corporate debt has grown at a rate in excess of all other high yield markets, increasing 117% over the past five years and currently totals $204 billion. This growing sector of the high yield market gives investors access to companies in emerging markets, a segment of the world economy that accounts for approximately 40% of total GDP. Many high yield companies in these countries are active participants in two broad areas of their economies: infrastructure and the development of a middle class of consumers. Both of these economic segments are expected to be long term drivers of growth. The market has 263 issuers with a quality rating breakdown of 54% BB rated, 42% B rated, and 4% CCC rated. The market is fairly well diversified with no industry representing more than 20% of the index using 15 broad industry sectors - the largest of which include banking, basic industry, and energy sectors. 17 Emerging Markets High Yield Market Emerging markets high yield corporate debt accounts for approximately 12% of the global high yield market, and is comprised of below investment grade, dollar denominated corporate debt from countries outside the G10, select Western Europe countries, Australia and New Zealand. All debt in this high yield market segment is issued in the U.S. or euro bond market. Emerging market bonds have evolved from being an extremely volatile asset class in the early 1990s to a larger, more mature segment of the global financial markets as emerging nations have gradually improved in terms of political stability, the financial strength of the issuing countries, and more conservative government fiscal policies. Credit quality improvements in emerging market sovereigns have created opportunities for companies to access the market for USD-denominated financing. Despite superior growth and improved credit quality in 12 The Globalization of the High Yield Market

13 emerging markets, spreads in the emerging markets corporate sector tend to be wider than in other high yield sectors when comparing similar credit quality. We believe historical skepticism about emerging markets credit quality, accounting transparency issues, market size and participants, individual country bankruptcy laws, combined with the sovereign ceiling concept, contribute to consistently wider spreads in the emerging markets corporate sector. Size and Growth of the Emerging Markets Bonds EM Debt has Increased 117% Over the Past Five Years 18 While the emerging markets corporate high yield sector has grown dramatically over the past five years, the amount of assets benchmarked to the sector has remained quite low. The investor base has been largely composed of cross-over investors from emerging market sovereigns. In addition, survey evidence indicates that U.S. insurance companies and U.S. high yield managers have very low allocation to emerging markets corporate debt. Over the last five years, investors have been compensated for the additional volatility as emerging markets has outperformed the global high yield market, returning 10.84% versus 10.66%, respectively. Spreads have historically been higher than the other high yield sectors and reached a high of over 2600 basis points during the financial crisis, exceeding all other global high yield sectors. We believe spreads will remain wide relative to other more mature high yield market sectors to compensate for the additional volatility the market has experienced. 18 Emerging market default rates peaked during the 2002 slowdown at 17.4%. During that period, emerging markets totaled only $29 billion, before the market entered its growth stage. Over the last five years, however, the default rate has averaged lower than the U.S. market, and has been similar to that of the European market. The distressed ratio, however, remains higher than both the U.S. and European ratio, indicating some ongoing skepticism that may create opportunities. Emerging Markets Returns & Spreads Spreads Remain Attractive Compared to Other High Yield Sectors 19 Over the last five years, however, the default rate [of emerging markets high yield corporate debt] has averaged lower than the U.S. market, and has been similar to that of the European market. 19 Returns are in USD 100% hedged. 13 The Globalization of the High Yield Market

14 Emerging Markets Bond Issuers Default Rate (LTM,%) 20 allows market inefficiencies to potentially be exploited through a cross market and sector allocation process by specialized portfolio managers who are well equipped to seek to take advantage of differences in growth, inflation, regional events, and credit cycles. Our bottom up fundamental analysis by our experienced global industry specialists will continue to be the key criterion to producing alpha within an expanded top down framework. Adopting a global approach to high yield 20 Default rates on an issuer basis. Conclusion As global high yield markets continue to grow and mature, we believe the opportunity set is broadening for investors seeking diversification and a potential source of alpha. While we believe that global credit markets are integrating, they continue to have secular and cyclical characteristics that are differentiated by market and region. Adopting a global approach to high yield increases the size of the investable universe and increases the size of the investable universe and allows market inefficiencies to potentially be exploited through a cross market and sector allocation process by specialized portfolio managers who are well equipped to seek to take advantage of differences in growth, inflation, regional events, and credit cycles. 14 The Globalization of the High Yield Market

15 Index Definitions BofA Merrill Lynch High Yield Master II Index (H0A0): The BofA Merrill Lynch US High Yield Index tracks the performance of US dollar denominated below investment grade corporate debt publicly issued in the US domestic market. Qualifying securities must have a below investment grade rating (based on an average of Moody s, S&P and Fitch). BofA Merrill Lynch European Currency High Yield Index (HP00): The BofA Merrill Lynch European Currency High Yield Index tracks the performance of EUR and GBP denominated below investment grade corporate debt publicly issued in the eurobond, sterling domestic or euro domestic markets. Qualifying securities must have a below investment grade rating (based on an average of Moody s, S&P and Fitch). BofA Merrill Lynch Global High Yield Index (HW00): The BofA Merrill Lynch Global High Yield Index tracks the performance of USD, CAD, GBP and EUR denominated below investment grade corporate debt publicly issued in the major domestic or eurobond markets. Qualifying securities must have a below investment grade rating (based on an average of Moody s, S&P and Fitch). BofA Merrill Lynch Global High Yield Constrained Index (HW0C): The BofA Merrill Lynch Global High Yield Constrained Index contains all securities in The BofA Merrill Lynch Global High Yield Index but caps issuer exposure at 2%. Index constituents are capitalization-weighted, based on their current amount outstanding, provided the total allocation to an individual issuer does not exceed 2%. S&P/LSTA Leveraged Loan Index (LSTA): The S&P/LSTA Leveraged Loan Index (LLI) reflects the market-weighted performance of U.S. dollar-denominated institutional leveraged loan portfolios. Facilities are eligible for inclusion in the index if they are U.S. dollar-denominated term loans from syndicated credits and meet the following criteria at issuance: minimum initial term of one year; minimum initial spread of LIBOR+125; minimum initial size of $50million. The index primarily consists of senior secured facilities; however, it does include second lien and unsecured loans if they are broadly held by CLO s and other traditional loan accounts. S&P 500 Index: An index of 500 stocks chosen for market size, liquidity and industry grouping, among other factors. The S&P 500 is designed to be a leading indicator of U.S. equities and is meant to reflect the risk/return characteristics of the large cap universe. Companies included in the index are selected by the S&P Index Committee, a team of analysts and economists at Standard & Poor s. The S&P 500 is a market value weighted index - each stock s weight is proportionate to its market value. BarCap US Treasury Index: The BarCap U.S. Treasury Index includes public obligations of the U.S. Treasury. Treasury bills are excluded by the maturity constraint but are part of a separate Short Treasury Index. In addition, certain special issues, such as state and local government series bonds (SLGs), as well as U.S. Treasury TIPS, are excluded. STRIPS are excluded from the index because their inclusion would result in double-counting. Securities in the index roll up to the U.S. Aggregate, U.S. Universal, and Global Aggregate Indices. The U.S. Treasury Index was launched on January 1, BarCap US Agg Corp Index: The BarCap U.S. Aggregate Corporate Index is a broad-based benchmark that measures the investment grade, fixed-rate, taxable, corporate bond market. It includes USD-denominated securities publicly issued by U.S. and non-u.s. industrial, utility, and financial issuers that meet specified maturity, liquidity, and quality requirements. Securities in the index roll up to the U.S. Credit and U.S. Aggregate Indices. The U.S. Corporate Index was launched on January 1, JPM EMBI Global Diversified: The J.P. Morgan EMBI Global Diversified limits the weights of those index countries with larger debt stocks by only including specified portions of these countries eligible current face amounts outstanding. The countries covered in the EMBI Global Diversified are identical to those covered by the EMBI Global. The J.P. Morgan GBI-EM Global Diversified consists of regularly traded, liquid fixed-rate, domestic currency government bonds to which international investors can gain exposure. The weightings among the countries are more evenly distributed within this index. JPM CEMBI Broad Diversified: The CEMBI tracks total returns of US dollar-denominated debt instruments issued by corporate entities in Emerging Markets countries. Two variations are available: CEMBI Broad and CEMBI. The CEMBI Broad is the most comprehensive corporate benchmark followed by the CEMBI, which consists of an investable universe of corporate bonds. Both indices are also available in Diversified version. The J.P. Morgan CEMBI Broad Diversified limits the current face amount allocations of the bonds. Both indices are also available in outstanding countries with larger debt stocks. Qualifying corporate bonds have a face amount greater than USD 300 million, maturity greater than 5 years, verifiable prices and cash flows, and from countries within Asia ex-japan, Latin America, Eastern Europe, Middle East, and Africa. 15 The Globalization of the High Yield Market

16 Disclosures This material is solely for informational purposes and shall not constitute an offer to sell or the solicitation to buy securities. The opinions expressed herein represent the current, good faith views of the author(s) at the time of publication and are provided for limited purposes, are not definitive investment advice, and should not be relied on as such. The information presented in this material has been developed internally and/or obtained from sources believed to be reliable; however, Stone Harbor Investment Partners LP ( Stone Harbor ) does not guarantee the accuracy, adequacy or completeness of such information. Predictions, opinions, and other information contained herein are subject to change continually and without notice of any kind and may no longer be true after the date indicated. Any forward-looking statements speak only as of the date they are made, and Stone Harbor assumes no duty to and does not undertake to update forward-looking statements. Forwardlooking statements are subject to numerous assumptions, risks and uncertainties, which change over time. Actual results could differ materially from those anticipated in forward-looking statements. This material is directed exclusively at investment professionals. Any investments to which this material relates are available only to or will be engaged in only with investment professionals. The value of investments and income from them can fluctuate and are not guaranteed. Investors may not get back the amount invested. Rates of exchange may cause the value of investments to go up or down. The value of investments will fall in the event of the default or reduced credit rating of the issuer. Past performance is not a guarantee of future results. 16 The Globalization of the High Yield Market

17 New York 31 W. 52nd Street, 16th Fl New York, NY London 48 Dover Street, 5th Fl London, W1S 4FF Singapore 9 Temasek Boulevard #09-03A Suntec Tower Two Singapore The Globalization of the High Yield Market